1. {Use on approved letterhead}
How Will Your Expenses Change in Retirement?
Estimating expenses over the duration of one’s retirement is a fundamental part of retirement
planning. Yet, there’s surprisingly little agreement among financial planners about spending
behaviors. Some suggest that retirement spending rises as clients’ age, due to accumulating
health care expenses. Others suggest that expenditures decrease as retirees reduce their
spending in areas such as travel and entertainment. Still, others suggest that retirement
spending stays relatively level and simply keeps pace with inflation.
The long-term impact of inflation is a fundamental risk for retirees. Yet most individuals never
adjust their portfolio withdrawals each year for inflation. Instead, the checking account bears
the brunt of inflation which means funds need to be replenished. To determine how much
inflation you are experiencing, you must look at changes in the checking/savings account
balances over time, preferably over one year.
A recent article by Wade Pfau, Director of the Macroeconomic Policy Program at the National
Graduate Institute for Policy Studies, Tokyo, Japan, examined the question of, “How do
spending needs evolve during retirement?” It concludes that most people’s spending patterns
change over the course of retirement. Expenses look very different at age 90 than at age 65.
He cites a paper by Californian Lutheran University professor Somnath Basu, “Age Banding: A
Model for Planning Retirement Needs,” which discussed post-retirement spending patterns.
Basu considered a 30-year retirement divided into three 10-year intervals. Rather than
assuming a constant rate of inflation for expenses in retirement, he divides spending into four
general categories: taxes, basic needs, health care, and leisure. Within these categories, he
investigated the spending patterns by age and made allowances for differential inflation rates
among these categories.
For example, he noted that retirees spend more on leisure (7 percent inflation rate) in the early
part of retirement and more on health care later. Health care expenses, which had an inflation
rate of 7 percent, were adjusted upward by 15 percent at age 65, 20 percent at 75, and 25
percent at 85. Taxes and basic living expenses were assigned an inflation rate of 3 percent, and
7 percent for health care and leisure.
This methodology provides a useful tool for planning long-term retirement budgets. Having a
system to track your expenses is a must. Make it a habit each year to review where your money
is going and what increased and decreased.
Your expenses will change during retirement.
If you would like us to help you budget and plan for retirement, please give us a call at:
856-227-2288 or 877-VILORD1.
Tom Vilord

2. President